Recently, Blume Ventures, which has backed unicorns like Unacademy, Slice, and Purplle, released a report called ‘Omega Files.’’
This report transparently discloses ‘How their inaugural fund performed?’ and, more importantly, provides insights into how Venture Capital firms operate.
In this blog, I will explain what is happening inside the venture capital firms with the Blume Venture Case study as an example. If you are a VC enthusiast or Aspiring entrepreneur, then this blog is for you.
Over the last decade, one of the most significant trends in Indian business has been the emergence of venture capital funding. Startups who do not wish to borrow money from the banks or government can consider venture capital as a significant funding source for their businesses to expand quickly.
Three decades after the first Venture Capital firm was established in the US, In 1975 a risk venture capital foundation was established in India. Fast forward to today, India has a vibrant VC ecosystem and has 1,500 active VC firms.
Blume Ventures is one of the top among them. In the period of 2011 to 2015 blume invested their inaugural fund of 98 crore Rupees over 78 startups and earned 5x gross returns.
But wait this 98 crores and 5x gross returns doesn’t only belong to Blume Ventures. this money is sourced from 80 different people and institutions. They are called limited partners.
World of Limited Partners
Typically, a VC firm raises capital for its funds from limited partners (LPs). The primary responsibility of a VC firm is to allocate and manage the funds raised from limited partners
The world of limited partners consists of High net-worth individuals and institutions such as foundations, university endowments, pension funds, funds of funds, family offices, sovereign wealth funds, etc
In the case of Blume, 70% of their inaugural funds are raised from High Networth Individuals and 30% from Institutional Investors which includes family offices like Camlin, Times of India, Dr. Reddy’s office, and Government Capital like SIDBI & Technology Board of India.
Why Limited partners give money to VC firms?
Limited Partners give money to VC firms with the expectation of generating returns.
With the capital sourced from limited partners, VC firms invest in early-stage companies in exchange for ownership in the form of equity. Once these companies grow and become more valuable, venture capitalists can sell their ownership in the company and make a profit.
VC can sell their ownership in three ways
1st way is Secondary Market Sale: VCs can exit their investments by selling their holdings to new investors in the private equity secondary market. For example, in 2011, Blume invested in the company Beaconstack when its valuation was 7.7 crores and fully exited the company via a secondary sale when its valuation reached 1155 crore rupees.
2nd way is via Mergers and acquisitions: In this strategy, the portfolio company gets acquired by another firm, by a strategic buyer interested in the growth and technology. For example, around 2012, Blume invested in Taxi For Sure, a car rental platform, when its valuation was 12.7 crores. It was later acquired by Ola in 2012 when its valuation reached 416 crores.
3rd way is via IPO ( Initial Public Offering): If the portfolio company performs well and goes public, venture capitalists can sell their shareholdings in the open marketplace after the IPO. For example, around 2012, Blume invested in a company called E2E Network when its valuation was 13.75 crores. It partially exited the company when the IPO sold at a 75 crore valuation with a price per share was 57rupees & fully exited when the price per share was 175 rupees.
Via many exits like this Blume Ventures managed to gain 5x gross returns from their 98 crore rupees inaugural funds and made a huge profit for their limited partners.
Typically VC fund managers receive fund management fees and carry a share of the profit.
All the other remaining money is distributed among limited partners who invested in the fund. When comes to management fees, on average 2% of the fund is the annual fee that the VC firm charges limited partners to manage the fund. For instance, if you have a $100 million fund, that works out to $2 million in fees every year. VC firms are able to charge this in order to pay all the partners, the support people, the legal costs, and fund administration expenses.
About 20% of the profits made by the fund go to the VC firm. This is better known as “carry” in the VC industry. Once the VC firm distributes the original invested capital back to all the limited partners. Every dollar after that there is a profit-sharing component. The VC firm can charge the limited partners a standard of 20%.
As a VC firm, if you have a $100 million fund and assume you generate an additional $100 million in profit, then 20% of that extra $100 million goes back to the VC firm as profit. This means that you’re actually returning $80 million to the investors from the $100 million profit.
However, In a European waterfall, the VC firm does not receive any carried interest until the Limited Partners have received their invested capital back, plus interest. In an American waterfall, the VC firm is entitled to carried interest at the same time as the Limited Partners.
Another important reason why institutional LPS invests via VC firms is because they need to support or catalyst certain causes.
For example, let’s take the technology board of India they realized that many technological projects still need to satisfy the traditional requirements of financial institutions and commercial banks. In addition to direct support to indigenous technologies development for commercialization, the Technology Board of India felt the need to network with other institutions to encourage technology-focused Venture Capital Fund (VCF) so far Technology Board of India has supported 11 Venture Capital funds with a total commitment of Rs. 285 Cr. leveraging total funds aggregating to Rs. 2463.00 Cr. from other investors. Blume is one among them.
How did Blume’s venture convince their limited partners to invest through them?
To raise their inaugural fund, Blume convinced their limited partners by effectively presenting data about the emerging market in India. This included showcasing the attractive demographic and economic trends driven by the rising middle class and domestic consumption.
Additionally, they emphasized the potential of the internet and smartphone market of India in 2011.
Furthermore, in 2011, when Blume was founded, there was a significant gap in the VC industry. VC investments will generally happen at various scales and different stages of a company, such as early stage, growth stage, and late stage investments. However, at that time most VC firms had shifted to the growth stage from the early stage. Blume addressed this gap with investors, emphasizing that investing in the early stage of a company provides high returns.
But this high return comes with high risk. To mitigate this risk, Blume adopted multiple deal strategies, either leading or being part of a syndicate deal.
For instance:
For companies like “E2E Network,” they strategically employed the Lead/Co-Lead deal strategy. This approach involved taking a prominent role in the investment, showcasing Blume’s active involvement in guiding the company’s development and growth.
On the other hand, for companies like “Taxi For Sure,” Blume opted for a deal syndicate. In this scenario, Blume collaborated with other investors like Helion, and Accel, forming a syndicate to collectively invest in the venture. This not only diversified the risk but also leveraged the expertise and resources of multiple partners in supporting the growth of “Taxi For Sure.”
Additionally, Blume maintained a balanced portfolio, aiming to have 60% India-domestic growth-focused companies and 40% India Tech-focused companies building for the global market.
By Communicating these well-defined value propositions, Blume successfully secured investments from their limited partners for their inaugural fund.
Venture capital firms invest in technology and concepts with great future growth but associated dangers, which make this style of financing distinct from conventional types of funding. This high-risk, high-reward investment model is evident in Blume’s inaugural fund, where almost 50% of the invested companies failed to yield any returns. Remarkably, only 20% of the companies Blume invested in contributed to 98% of their overall returns, underscoring the unpredictable nature of venture capital investments.
This is the short story of Blume Ventures.
From this story, if you are an aspiring entrepreneur looking to raise funds at some point in time, the first insight you need to take away is understanding the exit goals of VC firms. Your responsibility will not stop just after you receive the funds.
If you are a VC enthusiast, the first takeaway you need to consider is understanding the importance of limited partners in the VC ecosystem. The second takeaway is the exit and deal strategies used by VC firms. The third takeaway is that venture capital is a long-term game with high risk and high reward, where only a fraction of investments yield significant returns.
Hope you find this helpful. Please feel free to share your thoughts & feedback in the comment section.
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